The Company
Ener1 [[hev]] is in the exciting business of developing safer and more powerful lithium-ion batteries for use in hybrid gas-electric cars and in other applications. This is a laudable goal. From a business standpoint, however, there is a lot of risk. There are a number of other companies pursuing similar products at various stages of research, development, and production. A123 Systems is a private company that is already supplying Black & Decker with batteries for portable power tools as well as supplying test batteries to GM for possible use in the Chevy Volt. The MIT Technology Review has a positive article about A123 in the May/June 2008 issue. One public competitor, Altair Nanotechnologies [[alti]] has not produced much and has become a target of short sellers.
Ener1 does not yet have any products on the market; it is currently only at the working prototype stage (and that prototype has been independently tested and verified). I am not an expert on batteries so I cannot comment on how Ener1’s prototype compares to Altair’s prototype and to A123’s production batteries and prototypes. I can point out the financial difficulties that Ener1 will face, though. Stated in its recent prospectus is the stark fact that the company “will need additional capital to fund development and production activities.”
Contracts
Ener1 has a supply contract with Think Global to supply it with batteries for its electric vehicles. This contract, however, requires Ener1 to provide satisfactory batteries meeting the specifications of Think Global. Ener1 has yet to meet that requirement. Also, even if everything goes according to plan, this will only result in $70 million in sales for Ener1 through 2010. Here is the company’s description of the contract from its most recent 10K:
On October 15, 2007 we entered into a two year Supply Agreement with Think Global of Oslo, Norway, (“Think”) to supply Li-ion battery packs for the Think electric vehicle, Think City. Under the Agreement, EnerDel must deliver production prototypes in March 2008 and pre-production parts in July 2008 in exchange for approximately $1.4 million. After completion of the production prototypes and delivery of pre-production parts, if Think’s design and test requirements have been met, Think will order battery packs on a rolling six-month purchase order. If these requirements are met, the first order is expected to be placed in July 2008 with the first delivery expected by the end of 2008. We estimate orders of approximately $70 million based upon Think’s minimum forecasted vehicle delivery schedule for 2009 and 2010, although quantities may increase from the estimate. Think may increase the number of units on six months notice. Think is not obligated to buy any units if design and test requirements are not met.
Valuation
After a recent 1 for 7 reverse split effected on April 24, Ener1 has 98.81 million shares outstanding. At a recent price of $6.49 per share, this gives Ener1 a market capitalization of $641 million.
As of the year ended 2007 (see the 10k), Ener1 had cash of $24.8 million, total assets of $31.3 million, and about $12 million in liabilities (after accounting for the company calling its Senior Secured Convertible Debentures and extinguishing the related liability on the balance sheet). The company has a book value of $19 million and it has lost a total of $241 million over its lifetime. With negative free cash flow of $27 million in 2007, Ener1 will almost certainly have to raise more money before the end of 2008 if it is to remain in business.
Ener1, with a market cap of $641 million, is trading at a P/B ratio of 34.
PIPE Dreams
As my readers should know by now, a PIPE is a private investment in public equity. Hedge funds or other investors buy shares, often at a steep discount, and after a lock-up period (typically of 6 months or 1 year), they can then sell those shares to the public. Ener1 just filed a prospectus for the sale of 9% of the common stock outstanding. Keep in mind that the company will receive none of the proceeds of the stock sale; only the PIPE investors will benefit.
In a very negative sign, all but one of the investors listed in the prospectus has listed every single share they own for sale. While they will not necessarily sell every share, it is a bearish sign: in other prospectuses of PIPEd shares that I have seen it is common for holders to not list all their shares for sale.
Naive investors will often become more bullish when they see ‘smart money’ investing in their favorite speculative penny stock. However, PIPE investors do not need the stock price to go up to make money. As an illustration of how lucrative PIPE investing can be, consider the Quercus Trust, which is a trust for David and Monica Gelbaum (who have previously invested in some of my favorite companies, such as Octillion and Lighting Science Group). The trust is selling all 5.43 million shares (38 million pre-split shares) it owns.
Of those shares, 2.86 million shares (20 million pre-split) were bought last November for a total cost of $10 million (see the 13D for details). Warrants to buy the other 2.57 million shares (18 million pre-split) at a split-adjusted $5.25 per share were included in this purchase price. Here is the relevant excerpt from the 13D filing:
(1) The above reported 20,000,000 shares of Common Stock were acquired pursuant to Securities Purchase Agreement dated 11/19/2007, attached hereto as Exhibit B and incorporated herein by reference. In connection therewith, the Reporting Persons also acquired certain registration rights and warrants to purchase up to 18,000,000 shares of Common Stock, with an exercise price of $0.75 per share and an expiration date of 180 days following 11/19/2007. A copy of the Registration Rights Agreement dated 11/19/2007 and a form of Warrant to Purchase Common Stock of Ener1, Inc. are attached hereto as Exhibit C and D, respectively, and incorporated herein by reference. The total purchase price of the private placement (including both Common Stock and warrants to purchase Common Stock) was $10,000,000.
The Quercus trust exercised those warrants. At a recent stock price of $6.49, the 5.43 million shares held by the trust are worth $35.2 million. If the trust is able to sell these shares at the current market price, it will have reaped a profit of $11.7 million or 50% in under a year ($10 million was invested originally plus $13.5 million was used to exercise the warrants). In fact, the stock price would have to fall to $4.32 before the Quercus Trust starts to lose money.
Conclusion
Like in all areas of technology, either a few companies will come to dominate the market for advanced lithium batteries or the batteries will become commoditized and sell for low margins. An investment in Ener1 is a bet that it will come to dominate the market and that the market will be large. In every other possible situation the company would be unable to create enough sales and earnings to justify its current market capitalization. Even if it does become a large player in the battery market, it will need to raise hundreds of millions (if not billions) of dollars more in capital if it is is to produce the batteries. Such capital raising would likely be dilutive to current shareholders.
Unless you are an expert in the field and are absolutely sure that Ener1’s technology is better than its competitors’ technologies, I see much risk and little reward in investing in the company.
Further Reading:
Prospectus
10K for 2007 Fiscal Year
Quercus Trust 13D
Disclosure: I have no position in HEV. I have a disclosure policy.